Post-Brexit links

Been in the US for a week with family, on holiday. Not much time to read and write. But, here are some good post-Brexit referendum links:

A very British revolution by  Fraser Nelson, editor of Spectator, in WSJ:

The EU has become a coalition of the unwilling, the place where the finest multilateral ambitions go to die….In a television debate last week, Mr. Cameron was asked if there was “anything fair about an immigration system that prioritizes unskilled workers from within the EU over skilled workers who are coming from outside the EU?” He had no convincing answer…..No EU country can honestly claim to control European immigration, and there is no prospect of this changing. [Link]

David Goodhart in FT:

What may also have been missed, especially on the left, is that while many people in the top 25 per cent of the educational and economic hierarchy have become less attached to national social contracts in the past couple of generations, others have actually become more dependent on them …….Moreover, the loss of close, industrial communities over the past few decades might well have produced a stronger attachment to the imagined community of the nation and its social supports…….It seems that GK Chesterton’s “people of England that have never spoken yet” have been so aroused by the condescension of the expert classes that they spoke their mind with a force that has reverberated across the entire continent of Europe. [Link]

Jeffrey Sachs has a good piece in Project-Syndicate on what the world needs to do. Not that there is a chance that those things would be done. But, at least, he is specific and sensible.

Sanjeev Sanyal makes the valid point that historical events cannot be judged with economic metrics.

Standard & Poor’s downgraded the credit rating of the United Kingdom by two notches. Their press release can be found here. The comment that they make on the reserve currency status of pound sterling is interesting. Their views on different sectors is here.

How David Cameron’s ambivalence on the topic may have contributed to his own downfall, a year after achieving a resounding victory for the Conservatives in the national election. His downfall has been quite extraordinary. It should form part of philosophical discourses, on understanding human failing and limits to human endeavours and results, etc. This piece helps to understand David Cameron on EU better.

For the sake of historical interest, this article marks the date on which David Cameron announced his plans for a referendum on Britain’s place in the European Union – Jan. 22, 2013.

Even though the exit of Britain from EU might trigger a global crisis, it might not really be its precipitator. There is a difference. Other forces and reasons have been at work. One expected more thoughtful stuff from Gideon Rachman.

The rejection of the globalised world order by the Brits is as inevitable as it is by other nationalities. Many countries are turning their backs on globalisation for their own reasons. Some of us lose out from this development but that does not make the forces that have caused this development trivial. Trivialising it further strengthens it.

James Crabtree writes a more thoughtful piece for Singapore’s ‘Straits Times’:

Mr Cameron’s decision to call this week’s referendum will go down as one of history’s greatest miscalculations. It was born of reckless expediency, and designed to quell tensions within his eurosceptic Conservative Party.

Among my own circle on Facebook over recent months, I read just a single post advocating leaving. By contrast, hundreds tumbled out with passionate calls for Remain, some from europhile Britons, others from cosmopolitan Europeans, urging friends across the Channel to stay. Mine is admittedly not a representative sample, but it provided something of a window on to the much larger echo-chamber made up of the winners from globalisation – and one whose members must now rethink many of their most basic political and economic assumptions. [Link]

He is right about the echo-chamber. But, Edward Luce does not get it and will not get it. Nor do Gideon Rachman and Martin Wolf. They are typical of the ‘Liberal’ elite that my article in MINT refers to. FT readers continue to see through FT but not FT writers themselves.

A friend wrote to me, on reading my article:

Thanks for your interesting article.  I am in the UK now.   It really does appear that there is no plan in place for Brexit, and some politicians are openly stating that any plan that emerges will need to be validated by either another referendum or by a general election.  There is huge confusion, political turmoil and a growing opinion in hindsight that issues of such complexity ought not to have been decided by uninformed people, but rather by their elected representatives, since many people really did not know the full ramifications of Brexit and looked at it crudely and simplistically as a way of keeping foreigners out of the country.

This was my response to him (slightly modified):

That is a fair point but have politicians, policymakers and global elites fared any better?

If issues of complexity are not to be decided by people who have had very little time or information to apply their minds to the problem, what does one say about the politicians’ inability to read the public mood correctly? Not a single major party seemed to be in touch with the public. Despite their career, fortune and life depending on it, if politicians got the public mood spectacularly wrong, in what better shape were they to decide on complex matters?

Indeed, over the last two decades or more, politicians and elites have been making decisions on complex matters unmindful of their long-term consequences and have been somewhat blasé about the unintended consequences of their decisions. It is difficult to consider all the voters who opted for Brexit worse than or inferior to these politicians, policymakers and elites. Indeed, such a thought process itself, appears to me, to be the core of the problem.

Matt Taibbi captures it very well just with the header of his article for the Rolling Stone: ‘The Reaction to Brexit Is the Reason Brexit Happened’. The article is very well worth reading.

That is exactly what I wrote in my MINT piece too:

Liberal (pun intended) contempt for the interests and concerns of the ordinary people is hard at work nurturing divisive and xenophobic tendencies and personalities around the world.

I am pleased with the title of my article: ‘The Moving Hand writes’. The full lines which most of us would know are:

“The Moving Finger writes; and, having writ,
Moves on: nor all thy Piety nor Wit
Shall lure it back to cancel half a Line,
Nor all thy Tears wash out a Word of it.” (Omar Khayyám – 1048-1131 AD)


Real issues

Gita Gopinath in ‘Project Syndicate’:

There is reason to worry that India, too, may now stumble in its economic governance.

This is what I meant by saying, in MINT article, that the unravelling might have begun.

Second, in explaining low investment and job creation, there are many potential culprits besides interest rates.

I had written too on the questionable efficacy of low interest rates more than once.

This is from Devesh Kapur:

But a government that defends its record by claiming to be no worse than its predecessors is not one that can claim the mantle of change, as Modi’s so often does.

He is right. There is much more to ‘Congress-mukt Bharat’ than defeating them in elections.

Modi must be aware that those in his party who are deploying public speech to undermine reputations can also weaken the very institutions that are crucial to his own laudable economic ambitions for India…………….if it (the Modi government) abandons institutional roles and norms of civil behavior, and embraces known provocateurs, it will drive away the people of talent and integrity that sound, effective institutions need. Just ask Raghuram Rajan.

That is what I have been saying too. That this will have consequences.

The real issues are as follows. I had shared this with friends via email:

(1) The manner of ‘dismissal’ – the campaign of calumny – and what it portends for the future.

There are limits to what passes for noise and contestation in democratic polity inasmuch as one is dealing with a non-political position belonging to a non-political institution.

Defending the prerogative of the government to appoint and remove a RBI Governor without commenting on the propriety of the method adopted to force him out of the office remains, in my book, an incomplete analysis. See here, for example, by Sanjaya Baru (SB).

Second, some of us think that all can be forgiven if a competent person is chosen to replace RR.

I have serious doubts about his/her policy space simply or mainly because the government had not done much, if at all, to persuade impartial observers that it had nothing to do with the campaign and that it thoroughly disapproved of such distasteful methods.

Any reasonable individual coming into the office will worry about consequences if he/she does not deliver on the government’s know-all formula (snake oil economics) – lower interest rates – for delivering higher growth.

SB has nothing to say on this eminently plausible scenario. If someone thought that such a scenario came attached with an insignificantly trivial probability, they should explain.

(2) Performance, on balance, merited reappointment of RR.

(3) On his (Raghuram Rajan) public utterances – if the government had the right not to reappoint him, the government also had the right to talk to him and pipe him down. Real time feedback is better anyday than a later day ad hominem attack.

I understand that the feedback was given. I can believe that. In fact, it had worked so much so that some wondered if RR had become a government cheerleader until his remarks on the Indian economy as the ‘one-eyed king’ were misinterpreted. So, the government sympathisers choose to conveniently forget his positive utterances since late 2015 on the government’s policies.

(4) As for not cheerleading the economy, RR is spot on. India is a fragile economy, incapable of sustained (and sustainable) economic growth in its current structure. That is the bitter truth. If anyone wishes to protest this from their rooftops, they are welcome to do so. But, that won’t change facts.

Telling that, as it is, is to be welcomed by anyone sincere about ending it. It cannot and should not be construed as a criticism of a government that is two years in office. It is a judgement on 69 years of policymaking and evolution of the economy.

(5) Telling MSMEs not to expect a weaker rupee as their export panacea was the right thing to do, even if it was a curt message.

(6) In short, large sections of the government, the polity and the public are sensitive, insecure, diffident and prickly and not ready for straight talk. Nor are they ready for the hard grind required to get India on to a genuinely sustainable long-term high growth path.

Personally, I understand what RR was trying to do because I too always have tried to caution against investors getting carried away in financial markets. I try to temper short-term hyper-enthusiasm and exuberance in markets.

Two of my good friends sent in very thoughtful (but slightly different) comments on my email and on my MINT article. I have encouraged them to post their comments here.

Seetha Parthasarathy has a good piece in Firstpost. She discusses the support of pro-market right-wingers (PRW) and Hindutva right-wingers (HRW) for Modi and how they would evolve going forward, in the light of the recent developments surrounding Raghuram Rajan.

Most of us thought that NaMo would straddle both classes. But, when push came to a shove, he chose the HRW over PRW. Numerically, he is right to do that. So, in that sense, he is not repeating the mistake of AB Vajpayee and NDA-1.

But, this is the equivalent of Indian socialism: India’s socialists did not lift the poor but sought to make the rich poorer.

Similarly, attacking and hurting PRW is not a positive way of nourishing and catering to HRW. It is a negative way of doing so. It is ‘pandering’ as opposed to ‘nurturing’. In that sense, it caters to the baser and meaner needs and instincts of caste, communal and religious identities.

Hence, I understand what strategy or tactics that NaMo is adopting. But, I am sceptical if electorally, it would pay dividend. Not that I am categorical about it. Just a hunch.

In a way, it is one more experiment as the experiment in 2004, which failed. In 1999, it was HRW that got them 180-190. In 2004, pandering to PRW did not help to take them to 280 but brought them down to 145. In 2014, Modi tapped into both PRW and HRW. That got him a majority. In 2019, he is perhaps focusing again on PRW and HRW.

So, NaMo may avoid 2004 debacle but would it be better than 1999? Obviously, nurturing both sides of the Right – PRW and HRW – would have been ideal. But, that is hard work and lots of it.

I think he is making his choices and I hope, even from the point of his own interests (not from our framework), he is making the right ones.

RRR r from R

You would have made out what the header stands for. Most of you would have. Raghuram Rajan’s note to his RBI colleagues is here. Well, technically, he has not resigned but said that he would not seek a second term.

On 2nd June, a good friend forwarded this article and asked us what we would do, if we were in RR’s shoes:

This is what I wrote:

dear XXXXi,

Coming to the question, in this situation, if I were RR, what would I do?

Now, in putting myself into his position, I can only go by the publicly known facts. My decision to stay or to leave would very much depend on how much support my boss actually gave me (even if only in private) during this phase. Did he call me and reassure me that this was not authorised by him, that he did not approve of it, that he has confidence in me, that he would like me to stay and that he would sort this out?

If my boss tried to stop the attacks, how come SS released another letter in three days?

When my boss was asked about my continuation (WSJ interview), he actually waved it off! Now, all of a sudden, an article appears in all newspapers telling me and the world how proud my boss is, of me. How do I know that it is not a good cop-bad cop routine?

One sign of his support would be to announce the reappointment now. In normal circumstances, it might be announced only late in August. But, these are not normal times. A statement from the boss would have put an end to all speculation about my position and, more importantly, concern about the sanctity of certain posts and institutions.

Since, based on publicly available information, it appears that the boss did not do any of the above, I would leave. I just am not sure that I have his confidence and support, not just now, but for the coming period too.

I wish my successor good luck, My hunch is that he might need lots of it.

My previous posts on the RR – RBI – SS episode are here:

Do we need financial markets?

I wrote a MINT column on the header recently. Then, I expanded on it for another article in ‘Swarajya’.

One of my friends was not particularly pleased with this column. We had a constructive engagement via email. He felt that taxes would do the job. He thought that I was advocating a ban on financial markets. A careful reading of the column would show that that was not my core recommendation. At best, it was a negotiating position.

I was happy to find that Dani Rodrik had written on similar lines in November 2015.

And yet financial markets, evidently placing a premium on stability, hailed the outcome. A majority AKP government, investors apparently believed, would be much better than the likely alternative: a period of political uncertainty, followed by a weak and indecisive coalition or minority administration. But, in this case, there was not much wisdom in crowds….

… Financial markets are supposed to be forward-looking, and many economists believe that they allocate resources in a way that reflects all available information. But an accurate comparison of Brazil’s experience with that of other emerging-market economies, where corruption is no less a problem, would, if anything, lead to an upgrade of Brazil’s standing among investors….

… We know from painful experience that financial markets’ short-term focus and herd behavior often lead them to neglect significant economic fundamentals. We should not be surprised that the same characteristics can distort markets’ judgment of countries’ governance and political prospects.

He is right. If they cannot price financial assets correctly, how can we expect them to assess political risk correctly? But then, even the inability to assess political risk should result in a risk premium not only for political risk but also for the inability to assess it correctly. Central banks have, perhaps, erased the ability to consider risk at all. In the final analysis, that could be the biggest damage and the worst legacy of ultra-loose and unconventional monetary policy.

Do institutions matter?

Well, as titles go, this one is both provocative and stupid. Of course, they do matter. The subtext is whether they matter as much as we think they do. If they do, in what manner and over what time -frame do they affect economic outcomes? We do not have clear answers to these questions. It was a coincidence that Narayan Ramachandran wrote about the National Green Tribunal in his fortnightly ‘Visible hand’ column the day I had finished going through the paper I am discussing here. As one would expect, Narayan had cited the work Daron Acemoglu in his column. Pl. note that I am using Narayan’s column as a peg for this post. This post itself is not a criticism of his column.

The paper I read was by Professor Nicholas Ziebarth of Northwestern University (Year 2011). The paper is titled, ‘Are China and India backward? Evidence from the 19th Century of U.S. Census of Manufactures’.

Professor Ziebarth compares the present-day India and China to that of the United States of the 19th century since, on many counts, they share similar characteristics, including that of per capita income, etc. If anything, the US had a far better set of institutions:

We started with a completely dierent country in terms of policy but a similar level of development in the form of the 19th century U.S. and ended up with very similar levels of misallocation. This casts doubt on the relation between policies and the measures of distortions suggested by HK. Whereas the policy distortions in India and China are well known in terms of state owned enterprises and previously the License Raj in India, it is not so easy to what those explicit barriers are in the U.S. at this time.

As I argued above, economic institutions were rather conducive to allocating resources. Government spending was limited. There were few market restrictions. Bank decisions were not overseen directly by the government. And where the government did play a larger role in developing communication and transportation networks, its eect appears to have been salutary.

Simply put, there is no good policy reason why the U.S. at this time should have such a distorted capital allocation. The only thing that it shares with China and India of the late 20th century is a similar level of economic development as re ected in real GDP per capita. I interpret these results as suggesting that part of the natural process of development is capital reallocation. Policy surely does play some role here, but I think it is much less than we think while development itself is the main driver. What this means is that HK succeeded along the accounting dimension while overstating the case for the institutional one. Rather than a cause of low income per capita, capital misallocation seems to be an effect.

In fact, we can simply accept the superiority of the U.S. in the 19th century in relation to the present-day India and China for this reason, even if for no other reason. Yet, it had a similar level of distorted capital allocation as these two have now.

Professor Ziebarth cites Atack and Bateman (1999) here:

No single early economic data source surpasses the nineteenth-century U.S. federal census manuscripts in quality, in consistency, or in comprehensiveness; from mid-century onward, the census enumerations oer a unique historical record detailing the transformation of the United States from an agricultural to an industrial economy.

How one wishes for better quality data from China and India?! Both lack that but for different reasons, of course.

His concluding paragraph suggests that we do not know remotely enough about the process of development:

This paper contributes to both the historical literature on the development of the American economy and more broadly to economists’ thinking on development. The results suggest that a sizable fraction of subsequent manufacturing TFP growth in the 20th century can be tied to a better allocation of resources. For the latter, this paper shows that the mapping from economic policy to the allocation of capital is not straightforward. It appears instead that part of the process of development itself is a natural reallocation of capital towards more ecient ends, totally independent of policy decisions. And this is endogenous process is now what needs a theory. Future work should attempt to ll in the gap between the results presented here for 19th century America and those in HK for the 20th century. In the end, much remains to be learned about development through the lens of economic history.

That must make economists very humble. So, we should add the question of ‘what makes economies tick?’ to the question of (as yet unresolved questions) of ‘what makes companies tick ?’ and well, ‘what makes movies tick?’

[P.S: What Ziebarth refers to as ‘HK’ is the paper by Hsieh and Klenow published in 2009: ‘Misallocation and manufacturing TFP in China and India. Quarterly Journal of Economics 124, 1403-1448.]


On Brexit

Spent two days in London this week. Did a ‘huge’ sampling of five people: three said they would vote to leave; one said that he would to remain and one was indifferent. The final vote may be a lot closer and may even be in favour of Britain voting to stay in the European Union (EU). I left London on Thursday morning. So, these guys (yes, all were men) were polled before Jo Cox was killed.

The vote will remain too close to call until it is over. Even if the vote was in favour of Britain remaining in the European Union, it would not settle matters unless the vote was overwhelmingly in favour of ‘Remain’. Indeed, it would be a pyrrhic victory and could be worse than a vote to leave EU.

On the other hand, from what I hear, even those who are in favour of voting to leave concede that Britain’s financial sector would see exodus of business to Frankfurt or Paris. Well, if it happened, perhaps, that is what the doctor ordered for economic stability in Britain!

My sense is that the fallout of leaving are exaggerated. I said as much in my MINT column last Tuesday. Nor would staying inside the European Union mean that Britain’s profoundly disturbing structural economic problems would melt away. If anything, staying inside the EU had not prevented the emergence of these issues.

The UK has a 7% trade deficit. Perhaps, the ‘leave’ camp, if it won, might precipitate a recovery of British competitiveness with a collapse in the value of the sterling. Clearly, sterling would bounce if the vote was in favour of status quo but that would be fleeting.

Mervyn King, former Governor of the Bank of England, thinks that both sides have made exaggerated claims. He is happy that Britain did not join the monetary union. But, he also thinks that had Britain joined the single currency, it would have left by now and that other countries would have followed suit and the whole of Europe would be better off! He is no fan of the Euro. I am almost done reading his book, ‘The end of alchemy’.

In a lengthy post, published yesterday, John Mauldin noted this and he is right:

Whatever the result, you can bet that the sentiments being expressed by the Leave camp are not going to go away anywhere in the world anytime soon. And that you can take to the bank.

Pew Research Centre’s findings support him. He also notes that the opinion polls might be a poor guide to the final vote:

Right now “Leave” seems to have a substantial lead in the polls; but as Brent Donnelly pointed out this morning, the leave vote when Québec was deciding whether to abandon Canada and the leave vote when Scotland was deciding whether to part company from the United Kingdom were both ahead in the polls right till the very end. It seems that on big, close decisions we end up opting (if barely) for the known rather than leaping into the unknown.

You should read the full post for the points he is making and for the links he is providing.

Even though I had mentioned this already in an earlier post, I found Ambrose Evans-Pritchard’s piece in Telegraph both thoughtful and humble. Personally, he prefers to see Britain leave EU. The arrogance that is amply on display among FT writers who argue the case for Britain to remain within the EU was missing. That was refreshing.

All the same, the unfortunate murder of Jo Cox, a British MP, known for her staunch views on ‘remaining’ within the European Union, might have unexpected repercussions. People might be shocked out of their bravado of wanting to leave the European Union. Indeed, if one were cynical, one might even wonder as to who killed her and for what purpose. The stakes are very high and it would be foolish to rule out anything.

To understand this, read what John Mauldin writes, referring to the remarks of Neil Howe at his conference:

Neil Howe demonstrated at my conference that we are in the last half of what he calls “the Fourth Turning,” and he stated that the coming strife and chaos will be more than we have seen in the last eight years; so this divide is not just a passing phenomenon. It resonates with events that have happened roughly every 80 years in the Anglo-Saxon and European world for the last 400 years.


We are all Pravda and Xinhua

Sample some of the recent headlines for news articles and comments in FT:

  • Trump’s conspiracy theories fall flat
  • Sanders to work with Clinton to beat Trump
  • The Brexiters’ ugly campaign to vilify Turks
  • The dubious lure of taking on the elite  (The last two are by Philip Stephens)
  • Britain should vote to stay in the EU (this is a FT Edit)
  • Draghi: governments must step in to save ageing eurozone (This was ‘Breaking News’ on FT, actually!)
  • What life might be like if Britain voted to leave the EU (look at the picture accompanying the article)

FT Picture on Brexit

It is inconceivable that FT writers all have the same view on many things – Quantitative Easing, Negative Interest Rates, on Bernanke, on Brexit,  on Trump and Hillary Clinton, etc.

But, what we get to read are views that have only one slant – whatever is in the interest of status quo powers shall be defended and propagated. That is the common thread that binds all FT editors and commentators.

None of the FT writers could manage a thoughtful piece like the one that Ambrose-Evans Pritchard wrote in ‘The Telegraph’ on the question of Brexit. With beautiful prose that comes naturally when one is writing from the heart, he cogently and coherently laid out the case for why he would personally vote to leave the European Union but that he would not like to make any recommendations to the youth as to how they should vote. In recent months and years, we have rarely seen such humility from FT writers.

Only Nicholas Kristof, among the Centre_Left, has managed to reflect on this status-quo masquerading as a battle between the good guys and the bad guys. As I had mentioned in this blog post, he is able to see through the hubris (and mendacity?) of his ‘own’ camp.

I find the homogenisation of views and the arrogance and certitude with which they are articulated in a so-called liberal newspaper like FT more than a little troubling.

Martin Wolf criticised Republican elites for the rise of Donald Trump. He might have done well to emulate Dani Rodrik who notes that:

In reality, today’s world economy is the product of explicit decisions that governments have made in the past…..It was the choice of governments to loosen regulations on finance and aim for full cross-border capital mobility, just as it was a choice to maintain these policies largely intact, despite a massive global financial crisis……..There is much that policymakers can do to influence the direction of technological change and ensure that it leads to higher employment and greater equity.

That was the burden of my song in last Tuesday column in MINT. Today’s policy elites are as much to blame for the rise of Donald Trump and other polemical politicians and causes as their own rhetoric. Climbing on to a moral pedestal and blaming them for being unreasonable is easier. That is why I wrote that

Apparently reasonable people doing unreasonable things are more dangerous than those who look, talk and act unreasonably… Bill Gross, veteran bond investor, said in a recent interview that he believed that the system itself was at risk. Surely, Trump cannot be responsible for that.

Going South

The header refers to the relationship between China and neighbours and the broader ASEAN too. Check out the news of how the China-ASEAN meeting ended without an official communique. Both sides are trying to put a lipstick on the pig. Check out the story here.

This ‘Wall Street Journal’ story is very good. Reading it brought back memories of James Kynge’ ‘China shakes the world’, published in 2006. It captures the victimhood of mentality of China rather well, as this article does:

The victimhood narrative is at the heart of a Chinese nationalism that historians trace back to the end of the 19th century when China was defeated by Japanese land and naval forces. Western nations had earlier brought China to its knees in the Opium Wars. But now it lay vanquished by a smaller Asian power. That cruel blow sparked a national awakening.

Notwithstanding China’s modern strength, the country has never fully rediscovered its self-esteem.

Very well put. Amen to that.

The implication is quite clear:

Beware a China that feels victimized; an aggrieved, resentful, backward-looking power is likely to lash out more destructively than one confident of its place in the world.

FT had a story on China backpedalling on reforms to its Public Sector Units. This paragraph is key:

All the major decisions of the company must be studied and suggested by the party committees,” according to an article by the State-owned Assets Supervision and Administration Commission in the influential party magazine Qiushi, or Seeking Truth. “Major operational management arrangements involving macro-control, national strategy and national security must be studied and discussed by the party committees before any decision by the board of directors or company management.

Charlene Chu had gotten it right in her interview with Bloomberg. She never believes in the Chinese government’s promises on reforms because precious little has been delivered. I had blogged on it here.

Amidst all the pussyfooting and handwringing with respect to China’s desires and preferences, the folks at Morgan Stanley Capital International showed real spine when they rejected, for the third time, the inclusion of China A shares in the MSCI Emerging Markets Index. By any stretch of imagination, China does not qualify to be a market economy. Certainly, not after the manner in which it intervened in the stock market last summer.

In small and big ways, there must be consequences for China’s unilateralism in South China Sea and in other matters, as Daniel Twining had noted.

On China twisting others’ arms and they, in turn, wringing their hands in despair, see this article (ht Neelkanth Mishra) in Nikkei Asian Review on how China is openly trying to influence Fed monetary policy decisions.

On the S4A of RBI

As I saw the details of the scheme announced by RBI to structure stressed assets in the Indian banking system, I recalled what I read in the May 2016 edition of the ‘Capital Markets Monitor’ of the Institute for International Finance on China’s equity for debt swap:

So far, the authorities have basically dealt with the debt problem by asking state-owned banks to evergreen the loans—the recently announced “debt for equity” swaps could be the ultimate evergreening if not accompanied by resolute measures to get rid of the excess capacity………

……… However, given the environment of slow growth amid collapsing productivity, such a strategy could instead lead to the scenario of Japan’s lost decade.

In a way, what the RBI had done with this one more ‘conversion to equity’ proposal, given the caveats that the scheme has built in, is to avoid coming to the central issue of ‘hair cuts’ – how much should the banks write off?

Mind you. This is not a criticism. The path to the first best solution/world from the status quo is not always a straight line.  It is quite possible that RBI is coming (and bringing the rest of the society and the government) to that inevitable solution (haircut) in a slow and circular way, as is normal in all democratic and noisy societies. Building consensus takes an inordinately long time.

The so-called ‘ideal’ solution in my view is

  • for banks to sell loans to ‘arms-length’ (completely unrelated) Asset Reconstruction Companies at a discount (hair cut);
  • Regulatory, vigilance and other public audit companies approve the process and the method of arriving at the discount;
  • Rights over collateral are transferred to the ARC. They deal with the borrowers. Hair cuts leave a hole in bank capital;
  • Government merges some banks; changes management in many of them and starts privatising at least a few of them.

MINT had two good articles on S4A.


Swamy and the small

Dr. Swamy had fired off one more letter – this time on the allotment of licenses to Small Finance Banks.

His allegations mean one of the two things:

(1) The Expert Committee headed by Ms. Thorat did not take into account the criteria laid down by RBI, in the recommended names.

(2) If the Expert Committee did take into account the criteria laid down, then the RBI Governor overrode the recommendations of the Expert Committee and awarded the licenses to completely different set of institutions.

Assuming (2) were preposterous (because if it was the case, the Expert Committee members would have distanced themselves from the final list of licensees), the allegation reduces to (1) above.

So, the Expert Committee members should actually sue him for defamation?

An excellent blog post (ht: Alok Sharma) by Guy Rolnik at the  Stigler Center at the University of Chicago Booth School of Business on the travails of Raghuram Rajan compared with that of Stan Fischer when he was the Governor at the Bank of Israel.